Submitted by lilly_kilgore t3_10phz45 in explainlikeimfive
ContinuousZ t1_j6kyj7m wrote
Reply to comment by DragonFireCK in ELI5: What does it mean when a company buys back stocks and why is it frowned upon? by lilly_kilgore
>the rich can take loans using the stock as collateral allowing them to defer paying taxes, often permanently as no tax is owed until the stock is actually sold
you imply they do this to avoid taxes which isn't the case and you say "permanently" which makes no sense. You realize they have to pay back these loans, right? So what ever income they've made will be taxed and will go towards the loan(which btw has a small interest rate). The reason the rich get loans because they believe their stock will go up so they want to hold on to as long as possible. So if A rich person wants 100mil instead selling the 1mil shares, they get a loan and when they have to pay off the loan they might have to only sell 300,000 shares.
DragonFireCK t1_j6l18kz wrote
It does need more elaboration, but using loans with stock as collateral is a way to avoid, or at least minimize, taxes very long term. If the collateral raises in value at least as fast as the interest rate, you can take out more loans to service the initial debt. If the collateral raises faster than the interest rate, this can be extended to add on more debt load in total. Using this is risky, in the same way that margin stock is dangerous: losses are magnified more than gains are, and a stock drop can wipe out many times the amount of wealth from the owner.
The loans will also let them do better timing with sells, delaying payments such that they can liquidate a stock that lost value at the same time as stock that gained value, reducing the taxable liability when they do actually sell. This is presuming they hold any stock that actually lost value.
Most of the rich will have outside sources of income that they can use to service any debts they have. This will include items such as base pay and stock grants from the companies they own.
If they manage to delay the repayment until death, proper estate planning allows other tricks with minimizing tax liability.
ContinuousZ t1_j6m7fu4 wrote
>avoid
You just said avoid. There is no avoiding just delaying. You still have this impression this practice is done purely to "avoid" taxes. You don't pay interest on a huge loan to delay paying taxes.
>If the collateral raises faster than the interest rate, this can be extended to add on more debt load in total. Using this is risky
the banks that are giving out the loans don't like risky
>The loans will also let them do better timing with sells.
You're just reiterating what I just said.
>If they manage to delay the repayment until death
Banks are in it to make money. They aren't going to let Jeff Bezos take out a huge loan and not pay it back for 40 years.
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